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Written by Adrian Preston

Understanding the bullwhip effect in supply chains

An efficient supply chain management system is a necessity to the majority of organizations. It can result in competitive advantage as it helps to provide precise information to suppliers allowing them to maintain a continuous flow of products to customers. However, throughout the supply chain key factors such as time, demand for the supply, lack of communication and disorganization can result in one of the most common problems in supply chain management: the bullwhip effect (or sometimes referred to as the whiplash effect).

The Wall Street Journal states ‘The principle describes how companies typically respond to a spike in demand by ordering more products than required to hedge against potential continued growing demand and to avoid stockouts. This demand distortion is then passed along and amplified at each stage of the supply chain, with orders to suppliers furthest away from the point of sale far removed from the realistic views of consumer demand.’ With a thorough understanding of this concept, business owners and managers can avoid costly downfalls and maintain a performing supply chain.

Every year, the bullwhip effect causes companies around the world to lose millions of dollars because of stockouts and excess inventory. The Beer Game helps you learn how to defeat the bullwhip effect in the safe environment of a virtual simulation. The game educates players in preventing excess inventory and losing sales when they encounter the bullwhip effect in real life.

So what causes the bullwhip effect?

Order batching

Order batching occurs when a supplier takes order quantities it receives from its downstream customer and rounds up or down to suit production constraints such as, equipment setup times or truckload quantities. The more suppliers involved who round their order quantities, the more distortion occurs of the original quantities that were required.

Price fluctuations

Very often, special discounts and other cost changes can disturb regular buying patterns. What buyers want is to take advantage on discounts offered during a short time, resulting in distorted demand information.

Demand information

It is essential to understand that relying on past demand data to estimate current demand of a product does not take into account any fluctuations that may have occurred.

Lack of communication

Due to lack of communication between each supplier, it gets difficult for processes to run efficiently.  For example: managers may identify product demand much earlier than those suppling the product, causing big orders to be made.

Free return policies

Customers may purposely overstate demands due to shortages and then cancel when the supply becomes adequate again and without return forfeit retailers will continue to exaggerate their needs and cancel orders, resulting in excess material.

How to minimize the bullwhip effect?

Improved communications and better forecasts

A good strategy that can be used to minimize the bullwhip effect is through better information, in terms of improved communication along the supply chain or better forecasts. Since managers believe that end-user demand is more predictable than the demand experienced by factories, they usually attempt to ignore signals being sent through the supply chain and instead focus on the end-user demand. This method ignores daily fluctuations in favor of running level.

Eliminate delays

Another way to reduce the bullwhip effect is by eliminating the delays along the supply chain. Basically, by cutting order-to-delivery time by half in both real supply chains and simulations of supply chains, supply chain fluctuations can be cut by 80%.

Reduce size of orders and provide good customer service

Another method to prevent the bullwhip effect is to reduce the size of orders and constantly offer good product prices as a way to prevent surges resulting from promotional discounts. Not only that, but improving customer service and eliminating causes for customer order cancellations will also contribute to more smooth ordering patterns.

The bullwhip effect can be a serious threat to businesses and should not be taken lightly by supply chain professionals. To prevent the impact of the bullwhip effect and minimize impact to the their revenue, business professionals should be actively trying to prevent it. A good start is to opt for an innovative training and development program to educate employees about the bullwhip effect, which could be as simple as having your employees take part in our Beer Game simulation.

Try out our beer game now to see how well you are able to control the bullwhip effect.

A supply chain leader with 30 years experience of working in and managing the supply chains of the world's biggest companies from the automotive, medical, aerospace, construction and agricultural machinery sectors.

Adrian Preston